Closing your business loan is unquestionably one of the most satisfying feelings in life. With no looming loan burden, you can spend your money more liberally on other investments you had to put on hold. Often, this financial freedom is what drives many self-employed individuals to foreclose their loans. If you’re one of them, read on!
Now, while you do save a lot on interest in the long term, foreclosing your loan may negatively affect your finances. So, if you’re thinking of closing your loan before the due date, here are some pros and cons of foreclosing you should be aware of.
Pros of early loan closure
#1 Improved credit score
Closing your loans before the pre-decided tenure can reflect positively on your credit report. With an improved credit rating, lenders will be more likely to approve your loan applications in the future. Hence, you’ll be able to qualify for loans conveniently.
Apart from fast approvals, a good credit score may also help you get competitive interest rates.
#2 Savings on interest
If you’re servicing a loan with high business loan interest rates, then early closure can help you save on the interest component of the EMIs. Closing the loan early essentially saves the money that would have been spent paying interest.
Instead, you can put the money to work and improve other business operations or park them in an investment instrument such as fixed deposits, mutual funds, etc.
Additional Read: Short-Term Business Loans vs Long-Term Business Loans
Cons of early loan closure
#1 Cash flow crunch
Foreclosing requires you to pay a hefty amount out of your pocket, which can put you in an immediate cash crunch. Therefore, it’s advised to pre-close your loan only if you have an ample amount of cash available to sustain your business. In worst cases, an unplanned foreclosure can land you in another loan.
#2 Foreclosure charges
Although foreclosing can help you save a lot on interest, you also need to account for foreclosure charges onbusiness loans. These charges usually range between 2%-6% of the outstanding loan amount.
Since you are already utilising a lump sum amount, paying the extra percentage can put a severe dent in your savings. That’s why, before foreclosing, it’s essential to do your math.
So, calculate the total amount you’ll be saving on interest, and subtract the foreclosing penalty from it. And only foreclose if the result is positive.
#3 No tax deduction
Loan borrowers can avail of tax deductions on interest payments under section 24C of the Income Tax Act. However, when you foreclose your loan, you essentially give up these benefits. In worst-case scenarios, your business can end up in a higher tax bracket than before.
Additional Read: Business Loans and Taxes – Everything You Must Know
To foreclose or not to foreclose – the answer lies in your preferences. If you have enough surplus cash flow and don’t need the tax benefits, foreclosure is the right choice. However, if you don’t fancy paying foreclosure charges, you should hold off from foreclosing your loan.
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